JUDGMENT
G. Sivarajan, J.
1. The sole question referred at the instance of the Revenue for the decision of this court is as follows :
“Whether, on the facts and in the circumstances of the case and on a correct interpretation of the provisions of Section 2(18)(b)(B)(iii) of the Income-tax Act, 1961, the Tribunal was justified in holding that the assessee-company was a company in which the public are substantially interested ?”
2. The short facts necessary for decision of the question referred are that the assessee is an Indian company which was formed to take over the Indian business of the foreign company, Harrisons and Crossfield (India) Limited which was incorporated in England. The Indian company was formed on November 1, 1977, with seven shareholders each of them having ten shares of Rs. 10 each. Though the company was formed on November 1, 1977, the formalities of getting the approval of the High Court were completed on December 18, 1979, when the High Court passed the necessary order approving the scheme of amalgamation. The shareholding of the Indian company was subsequently raised with a total number of 12 shareholders, two of them holding ten shares each and the remaining ten holding five shares each. Since during the accounting period relevant to the assessment year in question more than 50 per cent. of the voting power was controlled by five persons (less than six persons). The Income-tax Officer refused to accept the company as one in which the public are substantially interested within the meaning of Section 2(18)(b)(B)(iii) of the Income-tax Act, 1961 (hereinafter referred to as “the Act”).
3. Aggrieved by the said order, the assessee took up the matter in appeal before the Commissioner of Income-tax (Appeals), Calicut. Before the Commissioner of Income-tax (Appeals), the assessee contended that when the Indian company was formed with effect from November 1, 1977, with seven shareholders the understanding was that it could be only an ad hoc arrangement as everyone knew including the Reserve Bank and the Controller of Capital Issues and the correct state of affairs of the company had ultimately to be sanctioned by the High Court. Since the amalgamation became effective from November 1, 1977, by virtue of the order of the High Court dated December 18, 1979, the company must be deemed to have come into existence right from November 1, 1977. It was also contended before the Commissioner of Income-tax (Appeals) that while passing the order, the High Court was considering the claim as a whole which provided for transfer of the undertaking by the foreign company to the Indian company with effect from November 1, 1977, and such transfer was possible only if the shares were held as widely as was contemplated, that the Reserve Bank of India while giving permission for the scheme had said that not more than 40 per cent. of the equity shares should be given to the foreign company and that till the formalities regarding acquisition of business and issue of share certificates are over the company shall not declare any dividend without the prior permission of the Reserve Bank of India. It was also submitted before the appellate authority that the seven shareholders did not receive any dividend out of the profits relating to a period under consideration till the company was fully constituted and that the profits made by the Indian company from November 1, 1977, were distributed as dividends eventually to all the shareholders who had subscribed Rs. 25 lakhs towards paid-up share capital including the foreign company which was given 40 per cent. of the total shares with a face value of Rs. 10. The appellant further contended before the first appellate authority that the intention of Section 2(18)(b)(B)(iii) of the Act is to see that the profits earned by the company should not go to the benefit of a few shareholders by getting the benefit of the reduced tax rate, and that in the instant case, the seven shareholders did not derive any such benefit during the period in question. It was also brought to the notice of the first appellate authority that the right of the foreign company to have shares and to participate in the profits of the new company was in existence right from November 1, 1977, and if the shares allotted to them were also taken into account it would not be possible to say that 50 per cent. or more of the shares had been held by five persons or less ; for the foreign company itself was a company in which the public are substantially interested.
4. The Commissioner of Income-tax (Appeals) considered the above submissions and held that the Income-tax Officer had taken a very narrow and unduly strict view of the matter while interpreting the provisions of Section 2(18)(b)(B)(iii) of the Act. The appellate authority noted the fact that the amalgamation was approved by the Kerala High Court with effect from November 1, 1977, that the approval of the amalgamation was also the approval of the scheme, that the entire scheme envisages the taking over of the Indian business of the foreign company by the Indian company from November 1, 1977, with a widely based shareholding including the shareholding of 40 per cent. by the foreign company, that the ban on declaration of dividend till the company was fully constituted in the manner envisaged by the scheme is also a significant factor which should decide the real character of the company, that although the Indian company was technically in existence from November 1, 1977, till January 14, 1980, when the amalgamation became effective, as a company of only seven shareholders. The fact remains that it was always a company as was constituted as on January 14, 1980, and that if the company had been deemed to have taken over the assets and liabilities of the foreign company from November 1, 1977, the composition of the company should also be deemed to have come into effect from the date in the same manner as it emerged from the order of amalgamation. The first appellate authority also noted that Clause 11 of the scheme appended to the High Court order provided that the Indian company shall, on or before the operative date, increase its issued capital by the number of its equity shares of Rs. 10 each necessary to satisfy its obligations under the various clauses of the scheme and further the equity shares so issued shall rank pari passu in all respects with the equity shares in the existing issued capital of the Indian company. This clause, according to the first appellate authority, will clearly show that all the shares which were ultimately issued were having the same character and quality. The appellate authority accordingly held that as on November 1, 1977, shares carrying more than 50 per cent. of the voting power had not been controlled by five persons or less and, therefore, the company has to be treated as a company in which the public are substantially interested.
5. Aggrieved by the order of the Commissioner of Income-tax (Appeals), the Department took up the matter in appeal before the Income-tax Appellate Tribunal, Cochin Bench. It was contended before the Tribunal, on behalf of the Department, that as per Clause 4 of the articles of the company which empowered the directors to refuse transfer of shares in certain cases and that this according to him will deprive the company of its claim. It was also urged before the Tribunal that what was relevant for the purpose was the shareholding in the company in the relevant accounting period and that since the shareholding was such that five persons did control 50 per cent. of the voting power the assessee had no right to claim the status which it did. The Departmental Representative also referred to the various clauses in the scheme, the High Court’s order, letters from the Reserve Bank of India and the Controller of Capital Issues, whereby the shares could not possibly be allotted to the foreign company before the date of the High Court’s order of 1979. It was also contended before the Tribunal by the Departmental Representative that there is no provision in the High Court’s order for any retrospective effect being given to the allotment of shares and that it was the allotment of shares alone with which we are concerned.
6. Counsel on behalf of the assessee reiterated the submissions made before the Commissioner of Income-tax (Appeals), before the Tribunal and contended that the company was formed with a view to take over the Indian business of the foreign company and that the scheme itself provided the allotment of shares to the foreign company. He also contended that when the shares were later on allotted by the assessee to the foreign company the foreign company did not have to pay for the shares because consideration in the form of transfer of the undertaking was already there. He also emphasised before the Tribunal that under the letter from the Reserve Bank of India the assessee could not declare any dividend and that during the accounting period relevant to the assessment year in question the assessee could not do anything with regard to the declaration of dividend and that being so the relevant provisions of Section 2(18)(b)(B)(iii) has no application to this kind of company which, according to him a “paper company”.
7. The Tribunal considered the submissions made on behalf of the parties and the Department and also perused the relevant clause in the amalgamation order of the High Court, the scheme, the letters issued by the Reserve Bank of India and the Controller of Capital Issues. The Tribunal also referred to the provisions of Sub-clause (iii) of Section 2(18)(b)(B). Thereafter, it was held that going by the provisions it could not be denied that during the period relevant to the assessment year in question five persons did hold 50 per cent. of the voting power of the company and that on a direct, simple and literal application of the abovequoted Sub-clause the company’s claim cannot be accepted. After holding so the Tribunal considered the reality of the situation and in that process it was noted that the assessee-company was formed with a view to take over the Indian business of the foreign company, that this step had to be taken because the transfer of the undertaking had to be to some legal entity and, therefore, that legal entity had to come into existence before the transfer was made. It was also noticed that the transfer is of an undertaking or business which meant a specific date for identifying the assets had to be named–in this case October 31, 1977. Since the legal entity has to come into existence before the transfer of the undertaking the shares were allotted from the beginning. Though the company was formed with the seven shareholders initially the understanding was that the court’s order and the necessary permissions from the Controller of Capital Issues and the Reserve Bank of India would be obtained for the transfer of the undertaking and the subsequent allotment of the shares to the foreign company. It was also noticed that the assessee-company was not expected to do anything during the period relevant to the assessment year in question except to serve as a holder of the undertaking which could be transferred to it. After noticing the relevant factual situation, the Tribunal observed that the provisions regarding the control of the affairs of the company, or holding 50 per cent. or more of its shares are all intended to serve a purpose, that in this case, the purpose of these provisions and those regarding the restrictions on transfer of shares is simply that if the benefits of the company are to be restricted to a small group of people the tax at a higher rate would be payable. It was also observed by the Tribunal that there were hardly any affairs to be controlled and no dividend to be declared and no benefits to be derived. The Tribunal, on a consideration of the entire facts and circumstances, held that the assessee was a company in which the public were substantially interested. It was also observed that the intention in regard to the future as such is the only relevant factor to be taken into consideration to determine its character because any other factor depending merely on the literal application of Sub-clause (iii) would serve absolutely no purpose.
8. Before us learned counsel for the Revenue contended that the Tribunal has entered a clear finding to the effect that the five persons did hold (less than six) 50 per cent. of the voting power in the assessee-company, that this finding was entered on a consideration of the provisions of Section 2(18)(b)(B)(iii) of the Act and that after entering such a clear finding the Tribunal was not justified in approaching the question in a different manner with reference to the purpose and in holding that the company is one in which the public are substantially interested. He also drew our attention to the decision of the Supreme Court in Punjab Produce and Trading Co. Ltd. v. CIT [1971] 82 ITR 619. He could not find any assistance from the said decision so far as this case is concerned. The question for consideration in the Supreme Court decision was entirely different from the one for consideration in the present case. In that case, in the applicant-company shares carrying more than 50 per cent. of the total voting power were held by less than six persons. In that case there was no dispute regarding the fact that less than six persons held more than 50 per cent. of the voting power of the company on a permanent basis. The only thing was that a decision was taken by the company in its meeting that no dividend need be declared for which no reasons have also been stated. On the other hand, on the above facts, the question was as to whether the twin conditions of the proviso to Section 23A of the Indian Income-tax Act, 1922, which is in pari materia according to learned counsel for the Department with Section 2(18)(b)(B)(iii) of the Act are to be cumulative or is it sufficient that any one of the conditions is satisfied ? In this case, the factual matrix is entirely different in that the initial formation and the allotment of shares to the seven persons was only a temporary arrangement and that the permanent basis depending on the final order to be passed by this court in the amalgamation order and the scheme. We are of the view that the Tribunal was justified in not taking a literal approach and in deciding the matter keeping in view the purpose behind the provision, or, in other words, a purposive approach in deciding the question. We entirely agree with the concurrent reasoning of the two appellate authorities and hold that the assessee-company is a company in which the public are substantially interested and accordingly entitled to the reduced rate of tax.
9. We answer the question referred in the affirmative, that is, in favour of the assessee and against the Department.
10. A copy of this judgment under the seal of this court and the signature of the Registrar shall be sent to the Income-tax Appellate Tribunal, Cochin Bench, for passing consequential orders.